This Isn't Your 1998 Rally...

Despite the market's upturn, there are still a lot of undervalued
companies, says Jon Markman of Strategic
Advantage.

Nancy Zambell: My guest today is Jon Markman, the editor of
several newsletters including Trader's Advantage, Strategic
Advantage, and Tactical Options, and a couple of futures letters.
He also is a columnist for sites like MarketWatch. Welcome, John, and
thanks for joining me.

Jon Markman: Thanks for having me.

Nancy Zambell: The S&P 500 has already hit 1,550. The
Dow has closed in on 14,500. Where do you think we go from here?

Jon Markman: This is a move that's been in progress since
March 2009, when the Federal Reserve joined with central banks around the world
to prevent the global financial system from collapsing.

Their strategy was to flood the system with cheap money. It was a very risky
experiment at the time, and a lot of people didn't think it would work. But it
did work. The central banks have really locked arms since that time in early
2009, to continue to flood the financial system with cheap money through low
interest rates.

What's interesting is that every time that they have sort of backed away from
that policy-indicating to markets that they were going to stop being so
accommodative-the markets have pulled back. This happened in mid-2011. It
happened in 2010.

The new strategy from central banks-including the Fed-is what a lot of
pundits have called QE-Infinity, which means "as much as it takes, as long as it
takes." That cue, which was given to markets essentially in September 2012, has
really driven this fantastic move that we've seen since.

The reality is that as long as the central banks continue to provide low
interest rates to investors, speculative markets-equities especially, junk
bonds, and even in some cases industrial commodities-will continue to levitate.
They'll do that even though the underlying economy has not been fixed.

In other words, the central banks have delivered a fix for the markets that
has not yet trickled down to Main Street. But the expectation and the experiment
and the belief is that over time-and it could take another six months or a year,
or even two years-the benefits of rising financial assets will lead to
investments on the part of businesses, more hiring, and therefore more job
growth, and more economic growth all around.

Nancy Zambell: It's not unusual for the stock market to lead
the economy, is it?

Jon Markman: That's right. A lot of people expect that the
economy will do well and then the stock market will do well, and that's not
really the case. What typically happens is the stock market leads the economy,
and then the economy catches up.

Now sometimes the stock market gets ahead of itself and it pulls back. But at
the same time, as long as the central banks are accommodative, you just have to
be involved.

Nancy Zambell: How is this rally different than the one in
1998-1999 with the tech stocks? A whole different group of sectors is leading
now. It's more of the boring mid-cap value stocks, wouldn't you say?

Jon Markman: Yes. What's interesting is that all stock
market advances are the same. They're built on psychology of content.

What's different about this one is that stocks are starting from a relatively
low and cheap level. Fund managers can actually buy some of the leading stocks
of this advance without holding their noses.

Look at something like Google (GOOG),
which is at an all-time high, around $800. Sure, the nominal value, $800, is
very high, but the actual valuation of that stock is actually quite reasonable.
It's only trading at about 12 or 13 times earnings. Back in 1999, a top stock
like that would have been trading at 60, 70, or 100 times earnings.

The valuations-when you look at various sectors-are incredibly low, and
that's one the things that really gives this advance credibility. Big-cap stocks
like General Mills (GIS)
or Coca-Cola (KO)
are trading at reasonable earnings multiples of 13, 14, 15. But some of the tech
stocks like Oracle (ORCL),
or as I say Google, or even Apple (AAPL),
valuations are really, really cheap.

Nancy Zambell: One of the areas that you've looked at in
your Strategic Advantage newsletter is utilities, and some people might
ask, why would you want to buy utilities now?

Jon Markman: One of the results of a low-interest-rate
policy-called ZIRP, for zero-interest-rate policy by the Federal Reserve-is that
people who are on fixed incomes, particularly retired people, are no longer able
to buy Treasuries that provide a yield that's higher than the inflation rate. If
inflation is around 1.5% to 2% and you have treasuries that are yielding around
2%, you're not going anywhere.

So you need some kind of a yield. Investors are going to utilities, and
they're going to real estate trusts. And they're going to a new type of real
estate trust that invests mostly in mortgages, in order to get yield.

The utilities are quite expensive now; a lot of them were trading as if
they were tech stocks. They're trading at multiples of 15, 16, 17, or 18.

Nancy Zambell: That's amazing.

Jon Markman: It really is. But they're doing it because
people want yield. And so the good utilities-even though they've advanced a
lot-are still selling generally for 4.5% or 5% yields; sometimes 5.5% yields.

If you have a 5.5% yield, and you take away 1.5% for inflation, you still
have 3% income. And that's considered to be OK these days, because you're
getting some capital appreciation along with it.

Nancy Zambell: What's your favorite utility right now, or do
you have a favorite?

Jon Markman: Utilities, when they move, they generally move
together. If you want to look at one that's super cheap because of certain
missteps made earlier in the decade, you want to look at Exelon
(EXC).

If you want to look at some of the utilities that have not made stumbles and
are just growing organically, look at something like Otter Tail
(OTTR),
which is kind of a great name. It's a utility based in Minnesota.

In addition to its utility operations, it has hydro and natural gas, power,
etc. It also has some industrial arms that make plastics and things like that.
It's kind of like a mini General Electric (GE)
that also has a utility attached to it.

Nancy Zambell: Great. You were telling me earlier about a
company that makes ovens.

Jon Markman: It's a
company called Middleby (MIDD).
This is a really great example of how mid-cap value stocks are succeeding in
this environment.

Middleby makes commercial ovens. So if you walk into a Subway or a
McDonald's (MCD)
or Jack in the Box (JACK),
Middleby makes a lot of those commercial ovens. More recently, they have moved
into the commercial space by buying Viking, which is probably one of the two
best stoves you can put into a new home.

This is a great move because housing is the strongest sector fundamentally
right now in the United States. And as people build new houses and remodel their
old ones, they're putting in high-end ovens.

Viking is right in the middle of that, so it's a terrific play on housing,
and it also gets you to the fast-food business in a unique way.